The Menace And Promise Of The Independent Monitor

Friday, February 1, 2008 - 01:00

Editor: How did the special monitor concept begin?

Ide : The concept that a court of equity has special powers to direct resources has been around forever. The courts of equity in England used special masters as ancillary resources. Recently in the US, the concept was applied under RICO when courts found themselves dealing with what they perceived to be morally bankrupt organizations that were felt to require post-judgment monitoring to assure the carrying out of the directed remediation.

In the RICO application, the independent monitor was installed only after the court had found the entity guilty. The function of the independent monitor was to act as an adjunct to the court to reconstruct the entity. The independent monitor operated under the supervision of the court not the prosecutor.

Editor: So independent monitors were appointed at that time only where the entity had been convicted and had been determined by a court to be thoroughly corrupt. When did that change?

Ide : The Prudential case appears to be the first case where an independent monitor was appointed pre-judgment. The government and Prudential entered into an agreement whereby Prudential escaped conviction (which could have been its death knell) in exchange for operating under the supervision of a special master who was called an "independent monitor." This was part of the settlement to give assurance to the government that there was ongoing supervision.

When a problem developed at Coopers & Lybrand (which later merged into PricewaterhouseCoopers), an independent monitor was again installed. But, what really changed the dynamic was the aggressive use of monitors with WorldCom and other companies swept up in the post-Enron backlash. Under the new approach, the government entered into agreements to install independent monitors with companies who were threatened with indictment. These monitors were appointed under settlement agreements, not judgments and often without court involvement.

These "deferred prosecution" or "nonprosecution" agreements often provided for independent monitors designated by the prosecutor with no court supervision of the appointment, activities or term of the independent monitor. In a way, the independent monitor became a super board. In one company actions by the independent monitor resulted in the dismissal of the CEO and the General Counsel. This aggressive exercise of governmental power was contrary to time-honored principles of American jurisprudence that conferred the selection of corporate officers on a board elected by the shareholders. With the possibility of a crippling indictment of the corporation hanging over their heads, the duly elected boards have had no option other than to comply with the independent monitor's "recommendation."

The incredible power that resides in the ability of prosecutors to cause indictments must have limits and controls. Neither regulatory agencies nor Congress have set any policy governing the roles and duties of an independent monitor, the process governing their appointment or when they should be utilized.

Editor: Why do you think the function of the independent monitor as it is presently applied is a threat to American principles of corporate governance?

Ide : The core concepts governing regulation of corporations and the role of the courts and judiciary is best articulated by the Delaware corporation law which has become the gold standard for the other states; that is that governance of corporations is best handled by directors selected by the shareholders with a minimum amount of intervention by the courts, prosecutors or other governmental instrumentalities. Policy-wise, vesting the governance of the corporation in independent directors has proven to be most effective way for corporations to operate.

Putting duties on the board and in management to look after the interests of stakeholders, including shareholders and the public, is a much more efficient way to assure returns on investments while still allowing for the protection against wrongdoing. The lack of policy definition of the monitor role has had unintended consequences where monitors at times have been involved with business decisions that were unrelated to the area where remediation was to be overseen.

Editor: What restraints should be placed on independent monitors?

Ide : There should be a policy covering the circumstances where there should be a monitor and defining his or her role. Such a policy should provide that a monitor may be appointed only by a court and only where the court finds that the management and the board is thoroughly corrupt or unable or unwilling to take remedial steps to avoid similar problems from occurring in the future. There might be other situations justifying the use of a monitor. The criteria for utilization should be listed in legislation or in rules published for public comment for adoption under the administrative procedures for the SEC, DOJ, IRS and other relevant agencies that wish authorization to install independent monitors.

Seeking to honor and not override traditional corporate governance law concepts, these policy statements should provide that a monitor may be appointed only where a court determines that such action is necessary because the board and management cannot be trusted to take steps to avoid similar problems from occurring in the future or to conduct necessary remediation. And there should also be continuing court oversight to assure that the role of the monitor is only that of an auditor who would report to the court if in his or judgment particular actions should be required of the board or management. The role of a "monitor," when one needs to be utilized, should be much more akin to one of an auditor. The role should not be active management, but rather working with the board and reporting to the court and the public.

Editor: Is there a proper role for an independent monitor which is consistent with American principles of corporate governance?

Ide : If a company is accused of a crime by virtue of a compliance failure under circumstances where conviction of the crime would have major adverse effects on the ability of the company to carry on its business, the company should be permitted to supply the court with evidence that it has put in place procedures that will prevent the problem from arising in the future. If there is a reasonable probability that this will be done and that remediation will occur, the court might order the company to set up procedures that will prevent the problem from occurring in the future. If the court has reasonable doubt that the company will take this step on its own, it might appoint an independent monitor to audit the company's performance and to report back to the court.

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